Should South Africa be concerned about Brexit?

The world is a turbulent place; ripples from ‘events’ in one country can have destabilising effects on other countries and people. The decision by the UK to leave the EU (‘Brexit’) is a case in point. The shock-waves are likely to extend well beyond the British Isles. But is it something that South Africans should worry about in advance? Chris Stevens

May 11, 2016

Chris Stevens, Jane Kennan (independent consultants) and Matthew Stern (DNA)

The world is a turbulent place; ripples from a huge range of global ‘events’ could have destabilising effects. How can private or public sector planners spot the ‘probabilities’ amid the fog created by the vast number of ‘possibilities’ – and, among them, those that could have a significant impact?

The decision by the UK to leave the EU (‘Brexit’) is a case in point. Is it something that South Africans should worry about in advance? Can planning safely be left until after the referendum given that Brexit may never happen? Or should policy makers in South Africa prepare now? These are the questions posed in this blog.

Actually, the implications for South Africa of Brexit is one of the easier ‘possibilities’ to grade. Although the medium-term impact on South Africa’s exports would not be ‘major’, it could be significant for three main groups of producers. Why, who and how much? This blog provides an initial indication.

WHAT MIGHT HAPPEN?

Since no country has ever left the EU, what happens if the UK does leave the EU is a matter of conjecture. But it is possible to paint a plausible picture. Although initially nothing is likely to change (as the EU and UK come to terms with the referendum verdict) things could move fast after this period of reflection.

One likely option is that there will be a clean break; the main alternatives of emulating Norway’s or Switzerland’s relationship with the EU would fail to address many of the Brexiters’ complaints. One consequence of such a break is that the UK would cease to be a party to any of the EU’s trade agreements, including those with the SACU states.

South African exporters have historically received preferential access to the UK market through the Trade and Development Co-operation Agreement (TDCA) that entered into force in 2000. This agreement has recently been superseded by the SADC Economic Partnership Agreement (EPA). Under the EPA South Africa’s goods exports enter the EU on terms that are similar (though not identical) to those of the TDCA (see Box). Both the TDCA and the EPA agreements were signed with the EU, as a regional bloc, and not with the UK directly.

This does not mean that upon Brexit South Africa’s exports to the UK would immediately face generally higher tariffs set at the EU’s most favoured nation (MFN) level, that are currently applicable to all WTO states not eligible for a special trade regime. After all, none of the EU’s tariff regimes will automatically apply to a country that is no longer a member of the EU.

Instead, the UK would have to create a whole new trade and tariff regime from scratch. This process would take time. Probably the first step would be to legitimate the status quo ante of the EU’s trade regime through enabling legislation, thereby providing for an autonomous and transitional tariff regime, at least temporarily, while more permanent arrangements are negotiated. There is no obvious reason why this temporary, autonomous regime would not replicate all the details of the EPA.

A RECIPE FOR INSTABILITY

So nothing for South Africa to worry about? Not quite. Such an autonomous interim regime could maintain the existing market access provided to exports from South Africa to the UK, but it would do nothing for the UK’s exports to SACU states. Just as the SADC EPA and TDCA trade regimes would disappear from the customs computers in Britain, so the UK would no longer be automatically eligible for preferential treatment in SACU.

A continuation of the status quo ante would require SACU to enact a similar regime. Would the five SACU states choose to do this autonomously and without negotiation? Probably not.

This is a recipe for instability: the UK would be offering duty-free access to a range of imports from South Africa but its exports would face MFN tariffs in SACU. It is easy to imagine pressure building up from aggrieved British exporters for the UK to negotiate better access to SACU – and to remove its autonomous preferences as a ‘persuader’.

And, of course, for London the trade regime with SACU would not be the only game in town: parallel dramas would be playing out in relation to all of the other countries with which the EU has ‘better-than-MFN’ trade regimes. And, of these, the most important would be the trade regime with the remaining EU members. It is easy to imagine a scenario in which, during the trade negotiations between the EU and UK, wine exporters in France, Spain, Italy and Germany seek to use the opportunity to squeeze South African competitors out of the British market.

The UK will also both be seeking new trade accords with other countries and be vulnerable to WTO challenge if its ‘temporary interim non-reciprocal preferences’ start to look permanent. On both counts South Africa could find itself being elbowed out by competitors in countries that are commercially more important for the UK (such as USA’s wine producers).

WHO IS IN THE FIRING LINE?

Before considering how SACU might respond to this instability, how big a cost and concern might it be for South African firms? To check this out we have analysed the current tariffs applying to South Africa’s most valuable exports to the UK (see Box).

Box: Our analysis

We analysed all South Africa’s exports to UK with an annual average value in 2013–15 of $5 million or more (which accounted for 91% of the total). We then checked the EU tariff database (TARIC) for ‘sensitive items’, which we defined as those for which the MFN tariff was 5 percentage points or more higher than the preferential tariff available to South Africa on the day we interrogated the database. [1]

Both the $5 million cut-off point and the use only of the tariffs applying on a specific date will tend to understate the potential cost to South Africa of Brexit, though not by a great deal. In addition to the ‘big fish’ ($5 million-plus exports) identified in this analysis there are a large number of ‘tiddlers’: smaller exports, some of which will be sensitive. Taking the three main sensitive product groups identified there are an additional 41 fruit items (in HS chapter 08) for which South Africa’s exports to the UK totalled $34 million, some of which will be sensitive; 36 more wines ($15 million), all of which are probably sensitive; and 82 motor vehicles/parts (HS chapter 87), some of which may be sensitive.

Reliance on the tariffs applicable on a single date takes no account of the EU’s ‘calendars’ (times in the year when tariffs are raised to offer greater protection to European producers) or of the future improvements in South Africa’s access to the EU negotiated under the EPA. For example, avocados are not included in our list of sensitive goods because the EU MFN tariff is only 4% on the date TARIC was interrogated; but there are periods of the year when it is over 5%. And neither hake nor chrysanthemums are included because South Africa’s EPA preferences have not yet come into force.

With these caveats South Africa’s ‘high-risk’ basket includes all goods that met both the value threshold and all of the following three criteria.

First, the UK must be a significant market, the loss of which would cause pain.
Second, South Africa’s preferences must confer a benefit in the form of low or zero tariffs on imports into the EU.
Finally, the MFN tariffs that would apply in the absence of current preferences must be significantly higher.

Our analysis shows that any adverse impact would be concentrated on a few sectors. It would not be cataclysmic but neither would it be trivial.

South Africa has $854 million of major exports (2013–15 average) that fulfil all three criteria set out in the Box, and are therefore most at risk. This ‘high-risk’ basket accounts for 15% of South Africa’s total exports to the UK. The three main high-risk sub-sectors are fruit, wine and motor vehicles, with a mixed bag of other goods also vulnerable (see Figure).

Fruit

Fruit is top of the high-risk basket because of the number of goods that might face a tariff hike after Brexit and because of the importance of the UK as a market for South African exporters to the EU. In 2013–15 South Africa exported to the UK an average of $503 million annually of ‘sensitive’ fruits (for which the MFN tariff is likely to be significantly higher than South Africa’s current preferential rate) representing 9% of the UK’s total imports from South Africa during the period. Grapes, apples, citrus, plums, nectarines, peaches, melons and raspberries are all in the firing line.

For the great majority of these, exports to Europe are heavily concentrated on the UK, which takes up to 88% of the total. Of the 13 individual products in the high-risk fruit basket, the UK accounts for over 70% of sales (by value) for seven, and for over 30% for a further four.[2] Unless exporters can re-direct sales to ‘continental Europe’, losing the UK market would be equivalent to largely losing the EU market.

Wine

The UK is also a dominant market for South African wine exports to the EU, but not quite to the same extent. Its high-risk imports from South Africa totalled around $148 million (3% of total imports from South Africa).[3] And the UK’s share of total EU imports of high-risk wine products ranged from 47% to 71%.

Motor vehicles

Three categories of motor vehicles are at high risk (facing MFN tariffs of 10%). UK imports from South Africa of these three totalled $149 million. And the UK was a substantial European market (taking 34% of total EU imports of these products for the largest of these three, although it was much less important for the other two).

The rest

A final mixed bag of high-risk goods includes three very dissimilar products for which the UK is the main EU market. They are a category of aluminium (for which the UK is the only EU market, taking imports of $23 million); sauces (UK’s $11 million imports accounted for 86% of the total); and pumpkins (with the UK absorbing two-thirds of the EU total).

In addition polypropylene/propylene would face a significant tariff hike. But the UK is much less important as an EU market, taking less than one-fifth of the total.

HOW MIGHT SACU RESPOND?

The TDCA was negotiated between the EU and South Africa acting alone; any new trade agreement with the UK to put current market access on a more predictable footing would need to be negotiated with all five SACU states. Are their interests similar to South Africa’s? Not necessarily.

Some of the goods in South Africa’s high-risk basket are also vulnerable exports for other SACU states. Namibia exports grapes to the EU, and Swaziland exports citrus. The SACU partners also have their own at-risk baskets that contain other goods not found in South Africa’s. Beef for Botswana and Namibia, and sugar for Swaziland are notable examples.

If the exports of all SACU states to the UK were equally vulnerable there could be a consensus to negotiate. But once the negotiations get down to the details, differences would emerge (and hence so would a need for compromises to be made). And all five SACU states will have their own domestic lobbies for which the suspension of TDCA/EPA treatment of imports from the UK will be welcome, and not something to be given up. Balancing these competing interests is what trade negotiations are all about – which is why they take so long to complete.

But are the exports of all SACU states to the UK equally vulnerable? This is not certain. It would be much easier for the UK to create a traditional non-reciprocal trade preference for Botswana, Lesotho, Namibia and Swaziland than it would be to do so for South Africa. A WTO challenge to any autonomous, non-reciprocal tariff cuts seems intuitively more likely in the case of UK imports from South Africa than from its partners and a ‘quick fix’ (perhaps by creating a ‘UK GSP’) seems similarly less feasible for South Africa.

IS IT RATIONAL TO BE WORRIED?

To return to the question posed at the start: is the prospect of Brexit something that South Africans need to be concerned about? The answer is that for some producers it would be good to start thinking now about adjustment options should Britain actually leave the EU. Specifically, these producers may need to consider alternative markets for their current exports; either in Europe or elsewhere. Securing leads and export contracts takes time; and diversifying their exposure to the UK market might anyway be a good thing to do.

Action must necessarily wait until the exit plan is outlined, and the implications for Britain’s external trade relations are clearer. But some scenario building now could allow the high-risk industries to hit new markets running. It would also equip South African and SACU negotiators for the lengthy and complex trade negotiation that may follow.

Figure: Share of UK high-risk items analysed in total EU imports from South Africa

Sources: Author’s calculations using import data from ITC Trade Map and Eurostat COMEXT and tariff data from the EU’s TARIC Consultation.

[1] Or which are subject to an entry price system (which usually denotes that they are ‘sensitive’ and so likely to be subject to high MFN tariffs), or to varying specific duties according to actual alcoholic strength by volume.

[2] Goods identified at the 8-digit maximum trade data level; tariffs are set at the 10-digit national tariff line level.

[3] There is some uncertainty as the tariffs applicable to some imports from South Africa vary between 10digit items.